Economy brightening as hiring, spending rise

Jul. 30, 2014
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Shoppers visit stores along a section of Michigan Avenue known as the Magnificent Mile on July 29, 2014, in Chicago. As the job market continues to show improvement, consumer confidence has reached the highest level in almost seven years according to a July 29 Conference Board report. / Scott Olson, Getty Images

by Paul Davidson, USA TODAY

by Paul Davidson, USA TODAY

After five years of false starts and hard landings, the U.S. economy is finally reaching takeoff speed.

A batch of economic data this week underscores how economic growth and consumer confidence are finally catching up to a job market that has shifted emphatically into a higher gear this year.

The nation's economy grew at a 4% annual rate in the second quarter, much better than the 3% pace expected, the Commerce Department said Wednesday. It also turns out that the economy's dismal first quarter, battered by harsh winter weather, was less of a disaster than first believed as the government revised down the size of a first-quarter contraction from 2.9% to 2.1%.

Consumer confidence reached a seven-year high this month.

And the private sector added more than 200,000 jobs for the fourth straight month in June, according to payroll processor ADP. If economists' forecasts prove accurate, the government's July employment report on Friday will confirm that the U.S. has added nearly 1.5 million jobs in the past six months.

"I think the economy is starting to hum," says Mark Zandi, chief economist of Moody's Analytics. "The pace of growth is accelerating."

He expects the economy to grow about 3.2% the rest of this year and 3.7% in 2015, up from a 2.2% annual pace so far in the 5-year-old recovery. Bigger wage gains, he says, should drive stronger consumer spending. And businesses flush with cash are signaling they're finally ready to spend it, no longer paralyzed by fears of political and regulatory turmoil.

The Federal Reserve raised its outlook Wednesday, saying "economic activity rebounded in the second quarter" and "labor market conditions improved, with the unemployment rate declining further."

Some economists remain cautious. Much of the second-quarter bounce was the result of one-time blips, such as catch-up effects from the extreme weather and aggressive inventory stockpiling by businesses after a first-quarter slowdown.

"We do not view the outperformance in this report as a signal the outlook for growth has improved," economist Michael Gapen of Barclays Capital wrote in a note to clients.

Brian Bethune, chief economist of Alpha Economic Foresights, says overseas economic troubles could hamper the exports of Fortune 500 companies and dampen their capital spending. Plus, many of the economy's job gains are going to low-paid and part-time workers, curbing any benefits to consumer spending, he says.

And the Fed noted Wednesday that "the housing sector remains slow." After rebounding smartly in 2013, housing sales have slowed this year. New home construction, which has jump-started previous recoveries, is running at about an annual pace of 1 million this year - unchanged from 2013.

Forecasts of stronger growth since the recession ended in 2009 repeatedly have been doused by budget battles in Washington, European financial crises and Japan's earthquake and tsunami in 2011.

Yet there are enough signs that both the labor market and economy are ratcheting up for the Fed to acknowledge the improvements after a two-day meeting at which policymakers agreed to continue winding down the Fed's bond buying stimulus.

Besides citing the falling unemployment - now 6.1%, down from 7.5% a year ago - the Fed said inflation "has moved somewhat closer" to its annual 2% target. Some economists say the progress could mean the Fed will raise a key short-term interest rate earlier than anticipated in 2015.

President Obama did some economic cheerleading in a speech in Kansas City on Wednesday. "There are a lot of good reasons to be optimistic about America," he said. "We hold the best cards. Things are getting better."

Among the encouraging signals:

â?¢ Consumer spending rose 2.5% in the second quarter, more than doubling the first-quarter pace. Car sales have driven much of the gains in household consumption through the recovery as Americans replaced aging vehicles. Last quarter, they also splurged on other products as well, including household furnishings and recreational goods.

Strong job gains are boosting income and spending, says economist Paul Ashworth of Capital Economics. After adjusting for inflation, personal income rose 3.5% in the first quarter and 3.8% last quarter. Meanwhile, rising home and stock prices have made many households wealthier even as their debt levels have fallen.

Signs are emerging that the recovery's biggest missing piece - stronger wage gains - will soon fall into place. Average annual pay increases of 2% since 2009 have barely kept pace with inflation. Ashworth expects wage growth to pick up to about 2.5% later this year and 3% early next year as the unemployment rate falls. Pay hikes are already accelerating in sectors such as leisure and hospitality and business services where jobs have grown rapidly.

â?¢ Business investment in structures and equipment rose 5.5% in the second quarter, up from a 1.6% increase the previous quarter.

Business equipment is aging and non-financial corporations are sitting on nearly $2 trillion in cash. "They can't grow earnings if they don't take a chance" and invest in new products and markets, Zandi says.

â?¢ State and local government spending increased 3.1% last quarter after falling 1.3% in the first quarter. Both are finally benefiting from higher property and sales tax revenue. That's removing a significant drag on the economy, Ashworth says.

â?¢ Although the housing recovery stumbled in the first half of the year, there are signs that sales and construction will pick up. A report this week showed that the rental vacancy rate fell from 8.3% to 7.6% in the second quarter and homeowner vacancy rate dipped to 1.9%, the lowest since the housing crash.

Meanwhile, accelerating job growth is prompting more young Americans living with their parents to start their own households. Both developments should bring at least a modest pickup in home construction in the second half of the year, Zandi says.